Tribunal confirms loans from remuneration trust were disguised remuneration

In HMRC v Marlborough DP Ltd [2024] UKUT 98 (TCC), the Upper Tribunal (UT) allowed HMRC's appeal (in part), finding that payments made under a tax avoidance scheme were caught by Part 7A, Income Tax (Earnings and Pensions Act) 2003 (ITEPA).

Background

Dr Matthew Thomas was a dentist who carried on a dental practice through Marlborough DP Ltd (MDPL), his wholly-owned company.

MDPL participated in a tax avoidance scheme promoted by entities connected with Mr Paul Baxendale-Walker (the Scheme), under which it made payments through a remuneration trust (RT), which were then paid to Dr Thomas by way of loans. The sums paid by MDPL to the trust were approximately equal to the profits made by MDPL for the relevant year. The objective of the scheme was for MDPL to obtain a corporation tax deduction for the payments it made and for Dr Thomas not to pay income tax on the amounts that he received by way of loans. It was accepted that the Scheme was ineffective, but a question arose as to the correct tax treatment, for both income and corporation tax purposes, of the various payments that were made.

HMRC enquired into MDPL's tax returns and subsequently issued MDPL with determinations in respect of PAYE, decisions in respect of National Insurance Contributions (NICs), and closure notices and discovery assessments, in respect of corporation tax, which MDPL appealed to the First-tier Tribunal (FTT).

The FTT delivered its decision around nine months after the hearing, and the decision was amended by the FTT six months later. The FTT allowed MDPL’s appeal in respect of the PAYE determinations and NICs decisions, holding that the payments to Dr Thomas did not constitute employment income in his hands. This was because the payments were neither "earnings from employment" on general principles under section 62, ITEPA, nor made in "connection" with Dr Thomas' employment, for the purposes of section 554A(1)(c), ITEPA. The FTT also concluded (by the casting vote of Judge Morgan, with Mr Woodman dissenting) that, if it was wrong and the relevant payments were taxable either as earnings from Dr Thomas’ employment, or as earnings under Part 7A, ITEPA, the payments would be deductible in computing MDPL's profits chargeable to corporation tax. HMRC appealed to the UT.

UT decision

The appeal was allowed in part. 

In terms of the FTT's findings on the general principles argument, HMRC mounted what the UT considered was effectively an Edwards v Bairstow challenge in relation to some of the FTT’s findings of fact, contending that the FTT had failed to properly consider the evidence which was before it. HMRC also argued that the deference accorded to the FTT’s findings of fact was weakened by the lengthy delay in producing its decision.

In rejecting those arguments, the UT found that the FTT had analysed the law in meticulous and commendable detail, there was no misunderstanding of the correct legal principles and it had made an evaluative decision reached in the light of all the relevant evidence before it. In the view of the UT, HMRC's criticisms of the FTT's conclusions fell well short of what was required to sustain an Edwards v Bairstow challenge. As to the FTT's delay in producing its decision, while the UT agreed, in principle, that the deference accorded to the FTT’s findings of fact was weakened by the delay in producing its decision, it noted that the force with which that principle applied in any particular case was fact-dependent. To that end, the UT noted that the FTT's decision was substantially delayed, which was unsatisfactory, but the FTT nevertheless paid careful attention to the oral evidence and it was not possible to conclude that the findings of fact it made, or its evaluation of the evidence, were undermined by the delay there had been in the delivery of its decision. The UT therefore dismissed this ground of appeal. 

With regard to the Part 7A issue, HMRC argued that the FTT erred in law in finding that those provisions did not apply because the test was the same as that for section 62, ITEPA. Rather, HMRC argued that the words “in connection with A’s employment” in Part 7A were different from, and wider than, the “from” employment test in section 62. In agreeing with HMRC, the UT concluded that section 554A(1)(c) required a strong and close nexus between the loan and the employment, albeit one that did not need to amount to one that was causally “from” employment, as the FTT had found. On that basis, and having regard to the facts, the UT concluded that: 

(1) the profits of MDPL, paid as contributions to the RT and then lent to Dr Thomas, reflected the profits of the dental practice carried on by MDPL;

(2) Dr Thomas was the guiding mind of MDPL, solely responsible for the conduct and direction of its business from which the profits were derived; and

(3) this was a sufficiently direct and close connection with Dr Thomas’ directorship to ensure that section 554A(1)(c) applied. 

The loans from the RT to Dr Thomas were therefore connected with his employment/directorship, for the purposes of section 554A(1)(c) and the UT allowed HMRC's appeal on this ground.

On the deductability issue, the UT disagreed with the FTT's decision, and found that Mr Woodman’s view that the contributions were non-deductible was correct. On Dr Thomas’ own evidence, the contributions were made in such amounts as were necessary to reduce the taxable profits of MDPL to nil. The twin objectives of the Scheme  were to empty MDPL of profit and to advance that profit via the RT to Dr Thomas by way of non-taxable loans. There was no intention to benefit the trade of MDPL, and Judge Morgan's findings to the contrary constituted an error of law. The UT therefore allowed HMRC’s appeal on this ground.

Finally, in a postscript to its decision, the UT observed that where an appeal is made on Edwards v Bairstow grounds, it is important to particularise, in advance of the hearing, the parts of the relevant decision and the parts of the evidence before the FTT, which are the subject matter of the appeal. 

Comment

While the ineffectiveness of many disguised remuneration schemes is now apparent, a large number of taxpayers are grappling with how the payments received by them under those schemes should be treated for tax purposes. The UT's decision provides some much needed clarity on how the provisions in Part 7A, ITEPA, should be construed and the "connection" required to trigger the anti-avoidance provisions in section 554A(1)(c). The UT's decision also provides helpful 'best practice' guidance on how grounds of appeal should be formulated, particularly where Edwards v Bairstow grounds are being advanced.

The decision can be viewed here.